Risk News Shocks and the Business Cycle
47 Pages Posted: 22 Dec 2013
Date Written: December 20, 2013
Abstract
We identify a 'risk news' shock in a vector autoregression (VAR), modifying Barsky and Sims’s procedure, while incorporating sign restrictions to simultaneously identify monetary policy, technology and demand shocks. The VAR-identifed risk news shock is estimated to account for around 2%-12% of business cycle fluctuations depending on which risk proxy we use; regardless, contemporaneous risk and risk news shocks together account for about 20%. This is substantially lower than the 60% reported in Christiano, Motto, and Rostagno’s full-information exercise. We fit a DSGE model with financial frictions to these impulse responses and find that, in order to match the fall in consumption recorded by the VAR, we have to allow for 75% of consumers to be living hand-to-mouth.
Keywords: News shock, business cycles, risk, financial frictions, vector autoregression
JEL Classification: C10, C32, E20, E30, E58, G21
Suggested Citation: Suggested Citation
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